This is a blog that I started in october 2010, mainly for discussing my ideas on the economy, taxation and politics. Please add comments - I'll do my best to reply. If you are new, I would recommend watching one of my YouTube presentations (in French or English). You can download a fully indexed pdf version (over 600 pages) here.

5 Jan 2012

EUREKA!

EUREKA! There is a solution for the Greeks - and all
countries that are being hammered by bond markets forcing them to pay
interest rates hundreds of times those offered by the Federal Reserve
and the ECB to commercial banks.

As pointed out by Michel Rocard and Pierre Larrouturou in a tribune in Le Monde (that I translated here), the ECB can perfectly well lend money to "publicly-owned credit institutions", as stipulated by paragraph 2 of Article 123 of the Lisbon Treaty.

This
fact has been (deliberately?) ignored by Mario Draghi, ex-European
Director of Goldman Sachs, and recently made head of the ECB. He has
publicly refused to consider lending to governments, apparently backed
by the Germans, preferring to lend unlimited amounts of very cheap
printed money to commercial banks that they immediately stick under the
mattress (they maybe don't dare pay their bonuses just yet - it would be
a bit too obvious).

At the press conference on the 8th December,
when the ECB announced its plan to effectively print unlimited amounts
of money for any commercial banks (489 billion euros to 523 banks on
the 21st December, with a second feeding frenzy planned for the 29th February), he replied as follows:

Question: Why
is it so impossible for the ECB to act like the other central banks,
like the Federal Reserve System or the Bank of England? Why do you not
act more directly to help European countries by buying up the debt on a
massive scale?

Draghi:As I said before, we have a
Treaty and the Treaty states what our primary mandate is, namely to
maintain price stability. Also, the Treaty prohibits monetary financing.
I am old enough to remember that, when this Treaty was written in the
early 1990s, some of the countries around that table were actually doing
what you suggest doing now, namely some of the central banks of these
countries were financing the government expenditure of their governments
through money creation, and the consequences were there for all of us
to see. That is why, in a sense, this Treaty embodies the best tradition
of the Deutsche Bundesbank, whereby monetary financing has always been
prohibited.

That sounds clear enough. But I just asked the ECB
10 pertinent questions about their policies, and got pretty straight
replies - see here.

Effectively, there is no limit to the amount of money that the ECB is prepared to print for banks:
"Indeed,
according to the Treaty on the functioning of the European Union
(Protocol No. 4) the ECB (or, more accurately: the Eurosystem) has the
competence to "conduct credit operations with credit institutions and
other market participants, with lending being based on adequate
collateral." Please see Article 18 here"

And
to the killer question "9) If a publicly owned credit institution was
to supply the money to a government such as the Greek government in
order for that government to pay off its debts to the financial markets,
would the ECB object?", here's the response:
According to the Treaty - as you have just quoted - such publicly owned
credit institutions "shall be given the same treatment by national
central banks and the ECB as private credit institutions." It is up to
the banks to decide how to use the money they have borrowed from the
central bank system.

SO THE SOLUTION IS THAT THE GREEK
GOVERNMENT NEEDS TO SET UP A "PUBLICLY-OWNED CREDIT INSTITUTION" THAT
ASKS FOR 329 BILLION EUROS FROM THE ECB ON THE 29TH FEBRUARY, LOANS THE
MONEY ON TO THE GREEK GOVERNMENT, WHO THEN IMMEDIATELY PAY OFF THE 329
BILLION THEY OWE THE MARKETS. THE GREEKS ARE NO LONGER PAYING 18% TO
BOND MARKET LOAN SHARKS, THE BANKS HAVE ALL BEEN REPAID, AND THE ENTIRE
FIASCO COMES TO AN END.

8 comments:

Your idea seems interesting. A have a simple question on its feasibility. The loans from the ECB are done on a collateralised basis (with ECB specific criterions). How would the publicly-owned credit institution just created buy the required collateral? Would it use the ECB loan to buy it (and be left with no money to lend to Greece, without even mentioning the haircut)? It is not sufficient to be legally allowed to borrow from the ECB, you also need the financial means to do it.

The definition of adequate collateral seems remarkably poorly defined. Certainly, when the ECB handed out 489 billion on the 21st, it would appear that the decisions were made in 24 hours. I doubt that the seriousness of the checking was very high.

Governments could easily say that they offer a public building (eg. the Parthenon) as collateral, or anything else. It's far more valuable that a mountain of duff CDOs or whatever other rubbish the banks have been trading for their cash.

I agree that "on ne prête qu'aux riches". But governments are very rich in terms of the assets they have available.

The definition of adequate collateral is very precise (http://www.ecb.int/mopo/assets/risk/ecaf/html/index.en.html) even if probably not very good. It relies mainly on rating agencies; as such the checking was not done in 24 hours but over several years.

To use a public building (or any physical asset) as collateral at the ECB requires two steps: A. Transform the physical asset in a financial asset (securitization) ; B. Transfer the legal ownership of the asset to the publicly-owned credit institution (the order of A and B is not important). The transfer of ownership can be done through the payment by the credit institution of the correct price for the assets (at the European level, an official call for tender is probably required). How does the credit institution get the money to buy the assets? Another way is to use the state assets as "capital in kind" for the credit institution; an important cash amount would also be required. In any way, through the securitization the legal property of the physical assets will be transfer to a third party (usually a Special Purpose Vehicle). The state will have to pay a rent for the buildings.

All those layers will create a lot of expenses. Probably the total cost (interests, expenses, haircuts, …) will be lower than the 15% or so interests paid today, let's say it goes down to 5%. The payment of the principal is still due in three years, how will it be paid? It is because there is a serious doubt that the principal will be paid that a high interest is required. If the principal is not paid, the state would loose the ownership of its physical assets. Trying to cure the symptoms is not curing the disease.

Your proposal is to use the current framework to obtain a result that some people do not want to put in place. The goal of my remarks is to point out that this is not as easy as you make it. To my personal opinion your proposal is infeasible in the current framework, which does not mean at all that I believe that the current framework is good.

Sounds like the markets have rigged things in their favour. I can certainly believe that. If the ratings agencies have the opportunity, they'll no doubt say that government buildings are bad collateral, and that CDOs are much better. The 99% will have to declare war on this nonsense.

If you have a look at some of my other ideas here, you'll see that I would impose an FTT in all countries that use ECB money. This could return the system to sanity in a few years under controlled conditions. The rate would be automatically varied to guarantee that the money is returned at a constant rate. Try this one for example http://simonthorpesideas.blogspot.com/2011/11/solution-to-greek-debt-crisis.html

I just had a look at the different rating mechanisms on the site you mention. It includes ratings done by ICAS (In house credit assessment agencies) that are run by at least four central banks - Banco de Espana, Banque de France, Central Bank of Ireland, Deutsches Bundesbank, Osterreichische Nationalbank. If they can't say that Government Buildings are good collateral, then I don't know who can. Sure, the Greeks would need to have their own I guess.

Even if Greece creates its ICAS, it still has to do the step A (Transform the physical asset in a financial asset); ECB accepts only financial assets as collateral. This is something which is in the pipeline since some time (for example: http://www.greekpropertyexchange.com/news_detail.php?id=116 or http://www.lesechos.fr/economie-politique/monde/actu/reuters_00412705-grece-les-biens-de-l-etat-pourraient-garantir-la-dette-presse-269327.php). That would reduce the interest rates significantly (they mention 4% in the above article) but with the risk to lose the underlying physical assets if the debts are not paid in time (Greece could not ask anymore any "voluntary" debt reduction of 50% has they are doing now).

They are ways to solve the problem but they will take time and involve risks.

There Ain't No Such Thing As A Free Lunch: http://www.investopedia.com/terms/t/tanstaafl.asp#axzz1igGsRRaY

Aside from the cynicism of Mr. Draghi and his referral to Treaties; "… to maintain price stability" (I earn almost the same now as 10 years ago when they invented the Euro and everything I have to buy costs me 4 times as much) - laws are under constant revision and we the people demand such laws are rewritten for our benefit not those strangling the world.

Your right that the "price stability" thing is unbelievable. When you print 479 billion and add it to the economy, then it produces inflation. It could be house price inflation if the money is used to fuel a housing bubble, or inflation in the cost of raw materials, food stuffs etc. So, the strategy that Draghi has used is directly the oppsite of what he is supposed to be doing as head of the ECB.